FINRA Fines Firm for Inaccurate Order Routing Disclosures
Commentary by Glen Barrentine
A firm settled FINRA charges for publishing inaccurate and incomplete quarterly order routing reports and related supervisory failures.
According to the AWC, over a nearly four-year period, the firm filed 16 quarterly Rule 606 reports that misstated payment for order flow, profit-sharing payments, transaction fees and rebates. FINRA said that for nine venues, the reports listed these amounts as "zero" when the firm had, in fact, paid fees or received rebates.
FINRA found that, during the same period, the firm's quarterly Rule 606 reports included 11 filings that misidentified three broker-dealers as execution venues that did not qualify under the rule and failed to disclose the material aspects of its relationships with execution venues. FINRA highlighted that the firm:
- omitted all material aspects disclosures in four reports;
- stated in one report that it received "certain rebates" for routing orders, but did not identify the venues or the terms of those arrangements;
- noted in three reports that it routed orders to "certain exchanges and other trading centers" with unspecified fee and rebate structures but did not identify the venues or describe the fees or rebates;
- repeated the same incomplete disclosures for one venue in five reports and made no disclosures for its other reportable venues; and
- for three reports involving venues with tiered pricing schedules, provided only hyperlinks to current pricing tiers without specifying the tier or pricing applicable to the firm.
FINRA said the firm relied on a third-party vendor to prepare its public reports on the handling of customer orders but did not verify the accuracy of the data provided, review the required venue relationship disclosures before publication, or conduct any post-publication review. FINRA also noted that the firm's procedures lacked guidance on how reviews should be performed, leaving no meaningful process to confirm the accuracy or completeness of its disclosures.
FINRA found that the firm's supervisory system was not reasonably designed to ensure compliance with order routing disclosure requirements.
FINRA determined that the firm violated Regulation NMS Rule 606 ("Disclosure of order routing information") and FINRA Rules 2010 ("Standards of Commercial Honor and Principles of Trade") and 3110 ("Supervision").
To settle the charges, the firm agreed to (i) a censure and (ii) a $175,000 fine.
Commentary
The AWC involved the Firm's failure to provide accurate quarterly reports pursuant to Rule 606 of Regulation NMS. In large part, this resulted from the Firm's failure to conduct reviews to ensure that the data that was provided by the Firm to a third-party vendor, which prepared the reports, was complete and accurate. The AWC also identified shortcomings in the Firm's WSPs relating to the review of the accuracy and completeness of the data streams used to prepare the reports, the manner in which the reports themselves should have been reviewed and the review of published reports.
As stated in the AWC, Rule 606(a)(1) of Regulation NMS requires broker-dealers to publish quarterly reports containing statistical information regarding the routing of non-directed customer orders in NMS securities. The reports must identify the ten venues to which the largest number of non-directed orders were routed for execution, any venue to which five percent or more of non-directed orders were routed for execution and information concerning the types of orders that were routed to each venue. The reports must also disclose the net aggregate amount of any payment for order flow received from each venue, payment from any profit-sharing relationship received, transaction fees paid and transaction rebates received, both as a total dollar amount and per share.
As further stated in the AWC, Rule 606(a)(1) also requires each report to discuss the material aspects of the broker-dealer's relationship with each venue identified, including a description of any arrangement for payment for order flow, any profit-sharing relationship and any terms of such arrangements that may influence a broker-dealer's order routing decision. For venues with tiered pricing terms, the broker-dealer must include a description of all of the venue's pricing tiers, the pricing for each tier and the tier applied to the firm. Providing a hyper link to the venue's current pricing tiers does not satisfy these requirements.
The Firm's reports over a four-year period, consisting of 16 quarterly reports, failed to disclose the material aspects of its relationships with execution venues. These failures included the following incomplete disclosures to the effect:
- that the Firm received "certain rebates" without identifying the relevant venues or the terms of its arrangements with those venues; and
- that the Firm routed orders to "certain exchanges and other trading centers" that had implemented unspecified fee and rebate structures without identifying the venues or the fees or rebates.
With respect to the disclosure of tiered pricing schedules, the Firm's reports also relied, in part, on hyperlinked disclosures, which the AWC specifically stated cannot be used to satisfy the requirements.
Two points should be taken from the AWC. First, reports are only as good as the data used to create the report. Firms should have a process in place, which should be reflected in their WSPs, to verify the accuracy and completeness of all data streams used to prepare required reports; have a process to ensure that those data streams do not change over time; and monitor the data streams from time-to-time to confirm their continued accuracy and completeness. Second, firms should have a process in place to ensure that reports are reviewed both for accuracy and compliance with regulatory requirements. This process should not rely on a generic statement that the reports should be reviewed but, rather, should provide guidance describing how the review is to be conducted. This review process should also be reflected in Firms' WSPs.